This blog aims to study the mechanics of business and occasionally find a gem of insight.

(Consult your financial adviser before making investment decisions. Following the advice here does not guarantee performance and there is a substantial risk of loss)

Thursday, April 16, 2009

Using Oligopolies and Monopolies to Model Union Behaviour

Imagine there are a limited number of organizations which control the supply of a valuable resource. This small group of organizations collude with each other to deliberately regulate and restrict the supply of this resource in such a way as to maximize profit (acting in a similar manner as a monopoly). I'm not talking about OPEC and oil, I'm talking about unions and labour.

While it should hardly be a surprise that organizations and individuals look out for their own best interests, why is it permissible for some to exhibit behaviours that would be considered illegal by others?

What do I mean? Unions are essentially collaborating (colluding) with each other in order to capture as much of the labour market as possible across different industries. Whatever sectors they have influence over will usually experience inflated costs. If any business ever did that, they would be struck with anti-trust and anti-competition legislation.

Now any intelligent person will immediately point out that people should not be treated in the same way as oil. Of course not. However, the fruits of their labour can be quantified as a wage and to stray too far from that natural intrinsic value is poor practice.

Don't get me wrong. I don't think labour should be under paid. That scenario is just as unstable (and disastrous). But please don't act surprised or insulted when there is an inevitable reckoning when a scenario demanding more competitive practices force dramatic changes. Inefficient and unfair practices, whatever form they take, are inherently unstable. This is currently the scenario with Fiat purchasing Chrysler but incredibly weary of union wages inflated above the industry norm.

The difference between a union and good management is that good management should adjust wages as close as possible to their intrinsic value (up or down). Bad management will always try to under cut and unions will always try to get more. Its ironic (and extremely unfortunate) that in unions often start (and perpetually persist) in companies that at one time or another exhibit bad management practices regarding labour. Resulting in extravagant tug-of-wars in which no one really wins.

The best way to keep a union out? Be a responsive, flat and flexible management. Pay your staff well, respect them and be sensitive to their needs so they don't feel like they need an "additional management layer / political structure" to take membership dues in order to insulate them from poor management. A scenario where you regularly pay dues requires you to regularly justify your use of those fees (as any accountable organization should) and the situation naturally becomes resistant to change as unions are required by their mandates to always fight for higher wages even if the situation does not permit it (this is due to the zero-sum non-efficient use of membership fees to capture labour "demand surpluses" of businesses).

Regarding my previous model of profit per employee, I think that there should also be a risk / reward model when applied to wages for jobs. This is in direct response to critics who see CEO's with large compensation packages who leave sinking ships. I firmly believe (as do our capital markets) that if you want higher rewards, you must take more risks. The golden parachutes provided to CEO's seem to defy this logic. Certainly another example of an unstable scenario that doesn't "feel right".